9/08/2010 @ 6:00AM

India, Middle-Class Nation?

Even a decade after the onset of liberal, pro-middle-class economic reforms in 1991, the expansion of the middle classes was negligible in a country where 35% to 42% of population lived below the international poverty line.

Middle-Class Nation?

However, a study published by the National Council for Applied Economic Research (NCAER) in August claims a remarkable rise of the Indian middle class, or households with an annual income of at least $4,000, during the last decade:

–Increasing prosperity. Whereas in 2001-’02 just 13.8 million households had incomes in excess of $4,000 per year, by 2009-’10, the number–at constant prices–has risen to 46.7 million, representing a population of about 200 million individuals.

–Decreasing poverty. During the same period, the proportion of very low income households–those earning less than $1,000–has fallen sharply from 65.2 million in 2001-’02 to 41 million by 2009-’10.

Definition Issue

The NCAER has used a relatively low income threshold for defining middle-class status, as opposed to the World Bank, which assumes a yearly income of between $4,500 and $22,000. If the World Bank’s definition were applied, the rise in prosperity would appear less dramatic: The number of middle-class households in India would then seem to have risen from some 10.7 million in 2001-’02 to only 28.4 million in 2009-’10, in a population of more than 1.2 billion.

In-Between Class

Moreover, a closer examination of the report shows that the economy may be better characterized in relation to households that are neither middle class nor very poor:

–The largest proportion of households–140.7 million in 2009-’10–had incomes between $1,000 and $4,000.

–In 2001, 109.2 million households were already in this category. However, during the global downturn (2007-’09), while the proportion of high-income households continued to rise from 16.8% to 20.5% and low-income households to fall from 21.7% to 17.9%, the in-between class remained stagnant at around 62%.

This stagnation is likely to continue because the government has focused on withdrawing its control over business and increasing public support for the poor since 1991, leaving the in-between class out of its policy purview.

Rising Consumption

Middle-class expansion is economically important for its impact on patterns of consumption, which has the potential to fuel domestic growth and to aid global economic recovery:

–Private consumption is becoming an increasingly crucial component of the country’s economy, currently accounting for 60% of GDP (vs. 39% in China).

–In 2009 the demand for typical middle-class consumer goods, such as automobiles, surged by 33% and for other durables by over 40%, as low interest rates propelled the expansion of consumer credit. However, the adoption of a monetary tightening cycle is imminent.

Future Projections

Extrapolating from the current trends in middle-class consumption–two-thirds of which takes place in urban areas–a McKinsey study published in August has estimated that domestic demand could grow by a compound rate of 9.2% a year between 2010-2030, and that urban populations will rise from 35% to nearly 45% of the population. However, such estimates rest on several assumptions that could hamper urban consumption and urbanization in the long term:

–Sustainability issues. The economy will have to sustain the current growth rate of about 7% to 9% of GDP each year.

–Surging savings. A sharp rise in saving rates over the last few years–currently touching 36% of GDP–suggests that a higher proportion of income among surplus income-holders is being withdrawn from consumption.

–Land prices. A direct consequence of urbanization is an escalation of land values and property prices. As in developed economies, property booms can divert consumption away from commodities toward unproductive, and potentially dangerous, asset bubbles.

Outlook. The expansion of the middle class will allow it to shape the growth of household consumption and set the pace for urbanization in the country over the next two decades.

Oxford Analytica is an independent strategic-consulting firm drawing on a network of more than 1,000 scholar-experts at Oxford and other leading universities and research institutions around the world. For more information, please visit here.